ec1301 - monopolistic competition - 1
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MONOPOLISTIC COMPETITION
1© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Concept of Imperfect Competition• Imperfect competition
– A market structure in which there is more than one firm – But one or more of the requirements of perfect
competition is violated• Imperfectly competitive markets
– Monopolistic competition– Oligopoly
2© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Monopolistic Competition• Monopolistic competition
– A market structure in which there are:• Many firms • Selling products that are differentiated• And in which there is easy entry and exit
3© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Monopolistic Competition• Sellers offer a differentiated product
– Downward-sloping demand curve• Sell more by charging less• Raise its price without losing all of its customers
– Price setters• Product differentiation
– Quality or location– Can be subjective
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Monopolistic Competition• Many buyers and sellers
– No strategic interaction among firms in the market• Easy entry and exit
– No significant barriers to entry– Zero economic profit in the long run
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Monopolistic Competition in the Short Run • Maximize profit
– Producing where MR=MC• In the short-run
– Economic profit – Zero economic profit – Economic loss
• Demand curve facing a firm– More elastic than under monopoly
6© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
•Like any other firm, a monopolistic competitor maximizes profit by producing the level of output where its MR and MC curves intersect. Kafka Exterminators maximizes profit by servicing 250 homes per month. The profit-maximizing price ($70) is found on the demand curve at an output level of 250 (point A). Profit per unit of $40 is the difference between the price ($70) and average total cost ($30) at output of 250. Total profit is profit per unit times output ($40 × 250 = $10,000), equal to the area of the shaded rectangle.
FIGURE 1: A Monopolistically Competitive Firm in the Short Run
7© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dollars
Homes Serviced per Month
ATC
MC
d1
MR1
$70A
250
30
Monopolistic Competition• Economic profit in the short-run; in the
long-run:– New firms enter the market– Existing firms: lose some of its customers– Demand curve shifts left– Long run: zero economic profit
8© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
FIGURE 2: A Monopolistically Competitive Firm in the Long Run
9© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dollars
Homes Serviced per Month
ATC
MC
d1
MR1
250d2MR2
$40
1. In the long run, profit attracts entry, which shifts the firm’s demand curve leftward.
100
2. Entry continues until P=ATC at the best output level, and economic profit is zero.
3. The typical firm produces where its new MR crosses MC
E
Monopolistic Competition• Economic loss in the short-run; in the
long-run:– Some firms exit the market– Firms that remain: gain customers– Demand curve shifts right– Long run: zero economic profit
10© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
FIGURE 2: A Monopolistically Competitive Firmin the Long Run
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Dollars
Homes Serviced per Month
ATC
MC
d1
MR1
250d2MR2
$40
1. In the long run, profit attracts entry, which shifts the firm’s demand curve leftward.
100
2. Entry continues until P=ATC at the best output level, and economic profit is zero.
3. The typical firm produces where its new MR crosses MC
E
Monopolistic Competition• Excess capacity under monopolistic
competition– Long-run equilibrium: firm produces on the
downward-sloping portion of its ATC curve• Never at minimum average cost
– Its long-run output level is always too small to minimize cost per unit
– The firm operates with excess capacity12
© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
FIGURE 2: A Monopolistically Competitive Firm in the Long Run
13© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dollars
Homes Serviced per Month
ATC
MC
d1
MR1
250d2MR2
$40
1. In the long run, profit attracts entry, which shifts the firm’s demand curve leftward.
100
2. Entry continues until P=ATC at the best output level, and economic profit is zero.
3. The typical firm produces where its new MR crosses MC
E
•In long-run equilibrium, a monopolistic competitor earns zero profit and operates on the downward-sloping portion of its ATC curve (100 units, at point E). As a result, it does not use enough of its capacity to minimize its average total cost. “Capacity output” (where ATC is minimized) is 200 units. But for any rise in output beyond 100, MR < MC, so profit would decrease (the firm would go from zero to negative profit).
FIGURE 3: Excess Capacity in Monopolistic Competition
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Dollars
Homes Serviced per Month
ATC
MC
200d2
MR2
$40
100
E
LR equilibrium output
“Capacity output”
Monopolistic Competition• Excess capacity and prices
– In the long-run: P > minimum ATC • Higher price under monopolistic competition
than under perfect competition– Because of product differentiation – Consumers usually benefit from product
differentiation
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Monopolistic Competition• Nonprice competition
– Any action a firm takes to shift the demand curve for its output to the right • Better service, product guarantees• Free home delivery, more attractive packaging• Better locations, advertising
– May lead to short run economic profit
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Monopolistic Competition• Nonprice competition
– Zero economic profit in the long-run because:• Imitation by others reverses the initial
rightward shift in demand• The costs of nonprice competition shift the
ATC curve upward
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Advertising in Monopolistic Competition
• Perfect competitors– Never advertise (standardized product)
• Monopolistic competitors– Almost always advertise (differentiated
products)
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• Monopolistic competitor advertises– To shift its demand curve rightward– To make demand for its output less elastic
• Long run– Greater average cost per unit– Each firm sells more: demand curve shifts
right– May raise or lower prices 19
© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
FIGURE 9: Advertising in Monopolistic Competition (a)
20© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dollars
Bottles of Perfume per Month
ATC no ads
dno ads
$100
A
1,750
60
1,000
ATCads
dads
B
1. Before advertising, long-run economic profit is zero.
2. With advertising, in the long run, economic profit returns to zero.
3. Advertising can lead to a higher price in the long run, as in this panel . . .
FIGURE 9: Advertising in Monopolistic Competition (b)
21© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dollars
Bottles of Perfumeper Month
ATC no ads
dno ads
50
A
2,000
$60
1,000
ATCads
dads
C
4. or to a lower price in the long run, as in this panel.
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